Fundamental Analysis Of L-3 Communications

Summary

Declining revenues, declining net income, declining assets.

Cash flow statement is stronger than meets the eye.

Easy means to invest.

OVERVIEW

L-3 Communications Holdings LLL operates its wholly owned subsidiary L-3 Communications Corporation. They are a contractor in intelligence, surveillance systems, information technology systems, etc. L-3 also provides communication and electronic systems and products used on various military and other business platforms. They operate in four main segments: Electronic systems, Aerospace systems, Communication systems, and National security solutions, or NSS. L-3 major consumers include governments, foreign and domestic, as well as domestic and international businesses.

BOOKS

INCOME STATEMENT

Over the past 4 years, L-3's revenue has been decreasing. From $13.14 billion in 2012 to $10.46 billion in 2015, or a decrease of 20.5%. This decrease in revenue was met with an expected decrease in operating profits. From $1.34 billion in 2012 to $890 million, excluding unusual expense, or a decrease of 34%. These decreases in operating profits led to large decreases in net income. In 2012, net income was $782 million, as compared to only $282 million in 2015, excluding unusual items. This represents a decrease of nearly 64% in net income. This unproportional difference seems to lie in expense management. L-3 now has a lower margin business decreasing its gross profits from 10.3% in 2012 to 8.52% for 2015 year ended.

BALANCE SHEET

Over the past 4 years, total assets have decreased from $4.5 billion to $4.23 billion, representing a total drop of 6%. However, during the same time frame, total liabilities have decreased from $8.32 billion to $7.73 billion, representing a total drop of 7%. L-3's debt to assets ratio is currently 0.3, this shows that L-3 has some room to safely expand through debt if they wish and will not have issues on covering their payments. Their net working capital is standing at a solid $1.35 billion, showing that the company has plenty of wiggle room to pay their current bills and run their operations as normal.

CASH FLOW STATEMENT

If investors were to look at the cash flow statement and only look at the major item of "Net change in cash" most investors would be distraught. Negative changes in cash quarter after quarter having to go back to 2013 to find positive annual cash flows. These seem like bad news until you look deeper into what is causing these negative cash flows. Just over the past three years, L-3 has retired nearly $2 billion in stock along with $235 million in debt. During that same time frame, L-3 also handed out $621 million in dividends. These cash flows shift a massive $2.845 billion out of the hands of the company. Without these large cash flows, L-3 would have had a positive cash flow of $2.7 billion over the course of those years. If cash ever started getting tight, there is plenty of room for L-3 to change and get the cash necessary.

VALUATION

L-3's price to earnings is currently adjusted at 32.97 which is higher than the industry average. (I adjusted the P/E to exclude the unusual items). I don't like how high this ratio is because they currently have my three company killers, decreasing revenue, decreasing net income, and decreasing assets.

The company's dividend is promising. It has seen an increase every single year since it was started back in 2004. L-3's dividend can be expected to grow $0.05/share every year since that is the consistent growth they have shown since 2007 leading into the first dividend payment of 2016.

L-3's price to book is currently sitting at 2.12. This is lower than that of the industry average. This is because of the decreasing assets that L-3 has seen over recent years. As assets decrease, revenue opportunities decrease quickly followed by decrease net incomes.

CONCLUSION

I rate L-3 Communications as a sell. They have decreasing assets which are leading to decreasing cash flows. Their net working capital is getting chipped away, going from nearly $2.0 billion back at year end of 2012 to $1.35 billion at year end 2015. The only growth this company seems to have in EPS is from buying back shares that are beginning to eat a larger and larger hole in the company's pocket book.

An investor can short the stock and cover themselves with some calls. July calls at $150 are currently selling at a cheap 0.21% of stock value. With good news leading to a large leap in stock price, buying these calls could lead to a good insurance profit compared to any loss of shorting.

Decisions that would rate this company a buy would be expanding assets even with an increased D/A. This would show that L-3 management is looking for more cash flow opportunities which could help reverse the declining revenues it has seen over recent years.

Disclosure:I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.